Demand Media and Pandora: Hold Your Nose and Buy These 2 Stocks

by: SA Editor Rocco Pendola

We all hold biases. We all make value judgments. Often, we let this psychology influence the decisions we make as investors. And, of course, if you decide to shun a stock, you actually have taken a position because, as Canadian rockers Rush remind us: If you choose not to decide, you still have made a choice.

For one reason or another, you might not like the following two stocks. In fact, large numbers of people not only hate the stocks (both recent IPOs), but have strong opinions about the companies. I say, hold your nose, go long and hibernate as, one way or the other, they come into their own.

Demand Media (DMD): Out and out hate for Demand Media persists. A closer look, however, reveals that the company's business model goes beyond its flagship site eHow and Google's (NASDAQ:GOOG) search engine algorithms. The numbers clearly do not lie. As Demand Media's most recent quarterly report shows, they're up considerably across the company's multiple revenue streams:

Click to enlarge

As Demand continues to expand its internal sales efforts, expect content and media revenues to continue to increase, but with greater diversity (i.e., less reliance on Google clicks).

One other point to consider: To say it's taking forever would be an understatement, but Yahoo's (NASDAQ:YHOO) business model going forward looks like a lot, at least in part, like Demand's. Here's the kicker: Demand does what Yahoo cannot seem to perfect incredibly well. Much better than Yahoo does, in fact. Expect Yahoo to make a run for Demand Media sooner rather than later. I guarantee Demand Media will not sell itself out for anything less than a seemingly over-inflated premium. An invigorating start-up mentality exists at the company's plush Santa Monica headquarters. Demand brass will not risk giving a company with low morale the chance to mess things up for a mere pittance.

Pandora (NYSE:P): Often, to get past visions of a stinker stock, you need vision. Today, several issues dog Pandora. First, how can it offset the crazy amount of cash it must put toward music royalty fees by maximizing advertising and subscription revenue? And how can the company expect to compete alongside terrestrial radio and Sirius XM (NASDAQ:SIRI) satellite radio in the face of data usage caps and an in-vehicle connection that takes an extra step to execute relative to the aforementioned other two options?

Both questions are excellent. I have more where they came from. Despite my original contention that I would not touch P with somebody else's 10-foot pole, I think the stock is a mid- to long-term buy.

First, the day will come when your car serves as nothing but a rolling tablet PC. While I am not particularly keen on the whole idea, it's coming. Push a button and there's Pandora. There's too much consumer pressure mounting that data caps might soon become a thing of the past ... again. The trend of setting limits will reverse itself, rather abruptly, relatively soon. It might sound crazy in today's environment, but that's where the vision comes in. Who would have thought 10 years ago that society would walk around with its collective eyes glued to an iPhone? Even the great William Gibson did not see that coming.

And that brings me to Apple (NASDAQ:AAPL). Today, the audio entertainment space is overcrowded. You have terrestrial. You have Sirius XM. You have a million Internet players. And you have offerings such as iTunes and Amazon (NASDAQ:AMZN) and Google's respective clouds. Something's got to give. Whether it's Pandora, Slacker, Spotify and other Internet-based plays realizing they're stronger as one unified front or Apple putting its cash to work to buy Pandora, the space will consolidate.

A Pandora acquisition by Apple, for instance, could right the few wrongs Apple has committed. Face it: Ping and Genius leave quite a bit to be desired. Pandora, retooled to fit into Apple's larger scheme, could not only correct those minor missteps, but take Apple to the next level as it battles for your ear.

Disclosure: I am long AAPL, SIRI.